NEST picks Schroders for private equity portfolio

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NEST, the UK master trust, today confirmed it will be adding private equity to its members’ portfolios by appointing Schroders Capital as its manager for the asset class.

The master trust estimates it will have at least £1.5bn (€1.8bn) invested in private equity by early 2025. NEST currently has assets of £24bn and gains more than £400m a month in new contributions.

The addition of private equity completes NEST’s allocation to alternative assets which also include property, private credit and infrastructure.

The long-term target is to have around 5% of NEST’s portfolio in private equity – which matches its targets for its other alternative asset classes taking its total allocation to the assets to 20% of its portfolio.

Mark Fawcett, NEST’s chief investment officer, said: “We have not set more aggressive targets because it takes time to allocate capital to illiquid asset classes and we want to ensure our money is invested in good deals.”

Initially the private equity allocation will be for the foundation phase of the NEST’s accumulation strategies which is accessed by the master trust’s youngest members as well as the growth phase.

Fawcett said: “From the age of 16 to 55 members will be accumulating private equity positions which will then be reduced from 55 to 65.” Rather than selling the private equity positions, these assets will be transferred to younger members.

In the future, however, it might be possible to add private equity to the portfolio of pensioners through the Nest Guided Retirement Fund, he added.

Navigating fee constraints

NEST has been at the forefront of UK’s auto-enrolled master trusts expansion into illiquid assets. Fee constraints imposed by a manager charge-cap and stiff competition in the market have made it difficult for defined contribution (DC) schemes to add these more expensive strategies.

Fawcett said: “When we launched our search for a private equity manager, we were told it would be impossible to add this asset class given our fee constraints.”

The master trust received polemics in its response to its requests-for-pitches, saying NEST was upsetting the business model and how dare it challenge the idea of paying carried interest to have a successful private equity portfolio, added Fawcett.

Small and nimble

Despite these challenges, NEST found a manager which would provide capital to fast-growing smaller companies around the global. Fawcett added: “It will provide NEST with access to companies it can’t find on the listed markets.”

This capital will either be used to help those firms to grow more rapidly or to buy out the founders, he continued.

Tim Creed, head of private equity investments at Schroders Capital, said: “This mandate will focus on direct and co-investments.”

Direct investment involves one private equity company investing in a company while co-investment involves other private equity partners. Typically, co-investment does not involve additional fees.

Fawcett said: “Many of the mid-market private equity funds are quite small so need co-investors and we provide capital to take advantage of those opportunities.”

The mandate does not cover investments in other private equity funds. “We don’t want and can’t afford to pay double fees,” he said.

Integrating sustainability

It was also important for NEST to find a manager whose sustainable investment agenda aligned with their philosophy.

Creed said: “Integrating sustainable investment principles starts when we select the companies we want to invest in, how we run the companies we invest in and ends when we exit by scrutinising who we sell the companies to.”

Schroders Capital’s private equity investment focuses on IT, healthcare, business services, consumer and industrials. “The five sectors we focus tend to have relatively strong Environmental, Social and Governance (ESG) characteristics,” Creed noted.

Private equity investors can be more effective at improving the ESG characteristics of the companies they own than their listed counterparts, Fawcett said, adding: “A private equity investor has a level of disclosure than investors in public equity markets cannot access.”

Creed said: “We want to improve the ESG characteristics of a company and managers have to be on the same journey as us.” If companies are not moving fast enough, Schroders can implement changes, he added.

But the quality of sustainable investment in private equity is uneven with this industry lagging the public equity managers. “That made it important for us to find a manager whose philosophy aligned with ours,” Fawcett concluded.